China Losing Fiscal Fitness

 

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The month of June has brought worrying news about the health of the Chinese economy. Last week it was reported that the HSBC’s monthly purchasing managers’ index had fallen to 49.2 in May from 50.4 in April. It was the first contraction since October 2012 and lower than initial estimates, though factory output rose for seventh month on the trot. These findings added fuel to the buzz that Chinese economic recovery is losing steam. China’s economic growth decelerated unexpectedly in the January-March period, slipping a tad to 7.7 percent from 7.9 percent in the previous quarter. The Chinese economy gave its worst performance in 13 years in 2012, growing 7.8 percent.

On Sunday, China’s National Bureau of Statistics said May’s industrial production, a measure of factory and mine production, rose 9.2 percent year-on-year which was less than April’s 9.3 percent increase. Experts say the macro data for May, including the weak growth in exports and the continuing fall in growth of investment in fixed assets, confirm apprehensions that Chinese economy is stagnating after a very brief rebound.

The producer price index (PPI), which is seen as a leading indicator of price trends, slid 2.9 percent compared with a 2.6 percent fall in April, signalling that deflation is getting worse.  Analysts say falling factory-gate prices can prove fatal for the economy because they erode profitability and stifle expansion. The only straw of hopes is that May retail sales increased 12.9 percent year-on year compared with April’s 12.8 percent rise.

Beijing has started drawing a road map to change from being a manufacturing-centric economy to one sustained by household consumption

Increased consumption holds the key to sustained revival in Chinese economic growth as the government investment-led, export-based growth formula is running out of gas and time. According to a McKinsey report household consumption roughly makes up a mere 38 percent of Chinese gross domestic product (GDP). This is nearly half of the US, where household consumption’s GDP share is around 70 percent, and even considerably lower than other large economies, such as Brazil, France, Germany, and India, where it has touched 60 percent.

Beijing has started drawing a road map to change from being a manufacturing-centric economy to one sustained by household consumption, the report goes on to say. For example, it plans to use higher dividends from government-owned enterprises to strengthen social security. Then, the Chinese finance ministry may roll out a carbon tax in the next two years to signal the government’s green intentions as well as put curbs on capital expenditures of Chinese firms. Beijing is also planning to remove or slash indirect subsidisation of energy prices through production subsidies. Putting an end to such benefits will level the playing field and lead to the weeding out of less-competitive companies which would have folded up in the absence of government support. The question remains whether China will implement the required reforms in time and in adequate measure. The high rate of economic growth has helped the Chinese Communist party gloss over internal discontent and strife. It has given China the financial muscle and confidence to treat those with differing views, whether local dissidents or other countries, with utter contempt. The Middle Kingdom has worked hard to regain its place under the sun and must not lose the plot now when it so near to becoming the world’s most powerful nation.

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